Investment Manager Report

At the end of last year, investors were treating Asia as simply another emerging region at the mercy of the twists and turns of U.S. economic performance and monetary policy. But things seemed to have changed over the last six months—at least that is the impression that I have received from investors across the world. There is more willingness to think of Asia as a distinct region, like Europe—although it is still a radical change for some investment frameworks—and there is a growing understanding that all emerging markets are not created equal.

This change of heart toward Asia has no doubt been helped by several factors. But I would emphasize two elements in particular: growth prospects and valuations. First, taking growth, I quote a fellow panelist in Hong Kong, a few months ago, who had been asked about potential catalysts for the markets. He replied with, “You know, one day, we are just going to get bored of being negative.” And this finally appears to be the case. Asia has a lot going for it in the long term—fast rates of productivity growth, driven by better education and increased investment in capital, made possible by high savings rates. Countries seen as most vulnerable last year—India and Indonesia—appear to have taken some steps toward reform. Indeed, the difference between the political climate in Asia and in the Western economies is quite stark. The U.S. and Europe, though recovering, still seem to be underperforming and the political rhetoric is mainly focused on demand management—fiscal and monetary stimulus. Closely related is the question of wealth and income inequality. Policy is focused on trying to get people to spend more.

In Asia, over the last 18 months, we have seen the three giant economies put in place reformist governments: Xi Jinping in China, Shinzo Abe in Japan, and most recently Narendra Modi in India. Yes, there is a vast element of demand stimulus in Abenomics, but there is also much more emphasis on the supply side—labor force reform, corporate governance and financial reform. In China, financial reform, too, seems to be at the heart of policy as China tries to improve the pricing of risk and the allocation of capital across its private economy. Modi’s ascent to power in India has been greeted with comparisons to Ronald Reagan and Margaret Thatcher. And if he is successful in achieving, on a national scale, what he did in his home state of Gujarat, then India should see a wave of productivity growth. So as one half of the world tries to get the filling back into the pie, the other half is busy trying to grow the pie.

The second element that is in Asia’s favor is valuations. Valuations remain at a discount to long-term averages on a variety of measures, including price-to-earnings ratios, price-to-book and dividend yield. In Asia, equities look unequivocally cheap, relative to the rest of the world. Based on Factset aggregates, and using a composite analysis by any of the most commonly used measures of valuation, Asia is trading at a significant discount to the U.S. or anywhere else in the world, for that matter, save Eastern Europe. And this remains the same whether one looks at the Far East, Asia, Asia Pacific, Asia ex Japan or Asia Pacific ex Japan.

Despite all this, we often hear concerns that the sectors Matthews likes to invest in trade at a premium to the markets. This is generally, true. So we must believe we are getting something in return for that premium. First, we would argue that a significant portion of that premium is accounted for by the fact that we invest relatively little in China’s banks, or in any regional banks whose primary role is to funnel savings into the less efficiently run state-sponsored industries. This segment is trading at a well-deserved discount. Second, because benchmarks tend to be biased toward old-industry (heavy industrials, materials, energy) in Asia, we feel they are backward-looking. Third, we focus on long-term returns, which mean favoring cash-generative businesses with good capital allocation, high rates of marginal return on capital and management with good track records of either sharing corporate cash flows with minority investors or reinvesting sensibly in the business. We believe we are getting ample compensation in return for the premium we pay. And even then, when we look at the portfolio valuations in a global context, they are often trading either in-line or at a discount to U.S. and European equities with, we believe, better growth prospects.

Indeed, it is the growth strategies that have performed best in the past year or so. Small company strategies, too. This is not unusual in a period of recovering growth and rising interest rates, as the markets become more willing to value the long-term prospects of a business rather than focusing on immediately extracting cash. I would expect the markets to continue to hold a bias toward growth companies, if the current environment persists.

So, sentiment has improved markedly. But it is still wise to inject a note or two of caution. The conditions that caused market jitters have not gone away—a stronger U.S. dollar, some current account deficits and high rates of inflation. Indonesia, which had started to address these issues, has not given politicians as clear cut a reformist mandate as we hoped. Thailand is still sorting through its own political face-off. And the markets are starting to price in expectations for reform in India and Japan. But I really don’t feel that we are in a situation where markets are oblivious to bad news. After all, Asia has gone through more than three years of de-rating based on concerns over slowing growth and financial vulnerability. I am comforted by the fact that corporate earnings growth in the portfolios appears to have held up fairly well and the politicians are trying to deal with the region’s weaknesses. So I remain optimistic in the light of Asia’s growth prospects and a reasonable cushion from valuations.

Investment involves risk, including possible loss of principal. Past performance is not a guide to future performance. Investors should not invest in a Fund solely based on the information on this website. Investing in international and emerging markets may be subject to risks, such as social and political instability, market illiquidity, exchange-rate fluctuations, a high level of volatility and limited regulation.

Matthews Asia is the brand for Matthews International Capital Management, LLC and its direct and indirect subsidiaries.

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The information on this website is for informational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy any security that may be referenced on or through this website. Unless otherwise specified, it is not intended to be directed to any person(s) in particular. Information from this website must not be used in any jurisdiction where prohibited by law and must not be used in a way that would be contrary to local law or legislation. No investment advice, tax advice, or legal advice is provided through this website, and you agree that this website will not be used by you for these purposes. No representation is given that shares, products, or services identified on, or accessible through, this website are suitable for any particular investor. An investment in the Matthews Asia Funds is not available to investors in all jurisdictions; it is not available to U.S. Persons.

Investors should ascertain from their professional advisers the consequences of investing in the Fund under the relevant laws of the jurisdictions to which they are subject, including the tax consequences and any exchange control requirement. Investors should carefully consider the investment objectives, risks, charges and expenses of the Fund before making an investment decision. The current prospectus, Key Investor Information Document or other offering documents ("Offering Documents") contain this and other information. Applications for shares may only be made on the Fund’s most recent Offering Documents which are available from Matthews International Capital Management, LLC. Please read the Offering Documents carefully before investing.

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In the UK, this document is only made available to professional clients and eligible counterparties as defined by the Financial Conduct Authority (“FCA”). Under no circumstances should this document be forwarded to anyone in the UK who is not a professional client or eligible counterparty as defined by the FCA. Issued in the UK by Matthews Global Investors (UK) Limited (“Matthews Asia (UK)”), which is authorised and regulated by the FCA, FRN 667893.

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General Risk Factors

Past Performance is no guide to or guarantee of future returns. Please note that the price of shares and the income from them can fall as well as rise and you may not get back the amount originally invested. Income receivable may vary from the amount of income projected at the time of making the investment.

Exchange rate fluctuations may affect the value of an investment and any income derived from it.

If you exercise any right to redeem, you may not get back the amount initially invested if the share prices has fallen since you invested.

There can be no guarantee that the tax position or proposed tax position prevailing at the time of the investment will not change.

Dividends and capital gains on shares issued in Matthews Asia Funds may be subject to withholding taxes imposed by the countries in which each particular sub-fund invests.

The list of risk factors is not exhaustive and you should refer to the Simplified Prospectus and Prospectus for additional risk factors pertaining to that investment or relevant sub-fund.

The information on this website is for informational purposes only and does not constitute an offer to sell or a solicitation of an offer to buy any security that may be referenced on or through this website. Unless otherwise specified, it is not intended to be directed to any person(s) in particular. Information from this website must not be used in any jurisdiction where prohibited by law and must not be used in a way that would be contrary to local law or legislation. No investment advice, tax advice, or legal advice is provided through this website, and you agree that this website will not be used by you for these purposes. No representation is given that shares, products, or services identified on, or accessible through, this website are suitable for any particular investor. An investment in the Matthews Asia Funds is not available to investors in all jurisdictions; it is not available to U.S. Persons.

In Singapore, this document is available to, and intended for Institutional Investors under Section 304 of the SFA, and to Relevant Persons pursuant to section 305 of the SFA, as those terms are used under the relevant law. It should not be circulated or distributed to the retail public in Singapore.

In the UK, the information on this website is only made available to professional clients and eligible counterparties as defined by the FCA. Under no circumstances should this information be forwarded to anyone in the UK who is not a professional client or eligible counterparty as defined by the FCA. Issued in the UK by Matthews Global Investors (UK) Limited.

Index Definitions

Index Definitions

It is not possible to invest directly in an index.

The Markit iBoxx Asian Local
Bond Index tracks the total return performance of a bond portfolio consisting of local-currency denominated, high quality and liquid bonds in Asia ex-Japan. The Markit iBoxx Asian Local
Bond Index includes bonds from the following countries: Korea, Hong Kong, India, Singapore, Taiwan, Malaysia, Thailand, Philippines, Indonesia and China.

The MSCI China Index is a free float–adjusted market capitalization–weighted index of Chinese equities that includes China-affiliated corporations and H shares listed on the Hong Kong Exchange, and B shares listed on the Shanghai and Shenzhen exchanges and P Chips and foreign listings (e.g. ADRs).

The MSCI Japan Index is a free float–adjusted market capitalization–weighted index of Japanese equities listed in Japan.

The MSCI All Country Asia ex Japan Small Cap Index is a free float–adjusted market capitalization–weighted small cap index of the stock markets of China, Hong Kong, India, Indonesia, Korea, Malaysia, Pakistan, the Philippines, Singapore, Taiwan and Thailand.

The MSCI China Small Cap Index is a free float–adjusted market capitalization–weighted small cap index of the Chinese equity securities markets, including H shares listed on the Hong Kong Exchange, B shares listed on the Shanghai and Shenzhen exchanges, and Hong Kong-listed securities known as Red Chips (issued by entities owned by national or local governments in China) and P Chips (issued by companies controlled by individuals in China and deriving substantial revenues in China).

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